February 21, 2007

EXBD: Still a Rule #1 Company?

I'm sure that EXBD is on many Rule #1 investors' watch lists. My concern is that the big boys didn't sneak out of this one they rushed out to the tune of a 15 point drop in one day.

Listening to the earnings conference call and looking at the big 5 numbers and the news I can't find a reason for the huge drop other than the slightly disappointing earning. The red arrows appeared too late to avoid this precipitous drop.

Should we even be holding stocks over the earnings announcements? All of the assumptions (above) that made this a Rule #1 company are, in my view, still in place. This looks like a case where the stock dropped to the MOS price and is now a buying opportunity on 3 green arrows. Any thoughts on how to avoid gap drops like this and whether this is a buying opportunity would be appreciated.

Let's dive into EXBD. The question is in two parts: Could we have avoided the 15% loss, and is this a good time to buy?

1. Could the 15% loss have been avoided?

Once you are in
a stock, this is a purely technical question -- i.e., when should I sell
it?

Take a look at the EXBD chart. You'll notice that the stock had
three greens and the next day it opened just below $88. It then went
up above $95 and at that point everything was rosy.

Then came the
after hours earnings announcement, and the next day the stock opened at
$84. There was no way to have avoided that drop from $95 to $84.
Nobody was getting out in any big way. The announcement came as a
complete surprise to the Big Guys, and bam!, down it went.

But did you
guys lose 15%? Not unless you got IN at $95. Which you wouldn't have
done. So the actual loss was from our entry at $88 to the exit (with
the all-important stop loss in place) at $84.

That's not 15%. That's
a 4.6% loss. And, as much as we hate it, 4.6% losses are going to
happen to us from time to time and are well within the pain threshold
for a Rule #1 investor.

2. Now that it has gotten hammered, is this a good time to buy?

Here is where we need to become better investors, Joe. To buy a
business, you have to be certain that it's a good business and that it's
at a good price. EXBD has been a great business at a great price. But
something has changed in the last 12 months, Joe, and it's been really
really obvious.

Take a look at the quarter numbers this year vs. the
quarter numbers last year and you'll see that there is almost no change
in the trailing twelve months earnings. That means earnings growth is
almost 0%.

And book value growth, that all-important number, is -16%.

Sales continue okay, but free cash flow growth went negative for the
first time ever.

So of our Big Five numbers that we want to see all
good... the last year's numbers show us some problems are cropping
up. While we know that one year's bad numbers can often be a buying
opportunity, they are also an opportunity to make sure we know what we
are buying.

Do you know that the MOAT is large enough to overcome
management screwups, or is it possible that EXBD's moat is changing?
What is the cause of the problem?

So Joe, you've got to answer that
one. Answer it here for us and I'll post it. Tell us why the numbers
are going bad. Because there is no way, Joe, that we can put a
reasonably accurate Sticker Price on this business without it being
highly predictable. And rocky numbers are making EXBD start to seem
less than highly predictable unless there is a good and solid reason
for the problem and a good and solid answer from management for how the
problem is going to go away.

Without that, our confidence in this
Sticker Price is low and if our confidence is low, then we really don't
know what to pay for this. In which case, we can't buy it -- at least
we can't buy it at these kinds of multiples.

So here's my take on the whole transaction:

Without knowing
that this business is fine and the glitch in numbers is temporary, you
shouldn't have made the buy at $88 in the first place.

NEVER forget
that the Tools are only useful to us in those businesses that we can
put a value on. When we know what something is worth, I mean really
know, then the arrows are incredibly valuable to get us out in case
something has happened that we didn't know about.

The Tools are our
Rule #1 safety net for not being totally Warren Buffet. Which, face
it, we're just not. So in this case, we get to see that the Tools
pulled Joe's butt out of the fire with a small loss on this trade.

Overall this year, if he's been on it all year, the stock has gone from
$95 to $80 and Joe might still have a small gain. That is the value of
good Tools: even when we get caught in a business that used to be
wonderful but is going through a problem, the Tools will most likely
get us out without too much damage.

Comments

I'm sure that EXBD is on many Rule #1 investors' watch lists. My concern is that the big boys didn't sneak out of this one they rushed out to the tune of a 15 point drop in one day.

Listening to the earnings conference call and looking at the big 5 numbers and the news I can't find a reason for the huge drop other than the slightly disappointing earning. The red arrows appeared too late to avoid this precipitous drop.

Should we even be holding stocks over the earnings announcements? All of the assumptions (above) that made this a Rule #1 company are, in my view, still in place. This looks like a case where the stock dropped to the MOS price and is now a buying opportunity on 3 green arrows. Any thoughts on how to avoid gap drops like this and whether this is a buying opportunity would be appreciated.

Let's dive into EXBD. The question is in two parts: Could we have avoided the 15% loss, and is this a good time to buy?